Goldman Economists Downgrade Outlook

Goldman Sachs economist Jan Hatzius said the economy is entering a second slowdown phase and he expects a further decline in housing prices into next year.

Today, he lowered his fourth quarter outlook to flat GDP, and he now expects two stagnant quarters - Q4 and Q1 - before the economy stages a sluggish recovery in 2009.

Hatzius, and the Goldman economics team, said in a note that "we are on the cusp of a renewed deceleration in growth." They said housing could see another 10 percent decline, based on the Case Shiller home price index.

"Despite a few hopeful signs, the housing downturn is far from over. It's true that a few glimmers of hope have emerged in recent data," the note said. Home price declines have decelerated; builders are making some progress clearing inventories and the housing bill should help reassure the mortgage mark. "Still it's important not to get carried away by these very tentative signs," the note said. High inventories of unsold homes and tighter credit conditions are negatives for the housing market.

"House prices are still falling at nearly a 15 percent annual rate, and with the glut of supply, downward pressure on prices will persist into 2009," the note said.

Mid Way Through the "W" Pattern

Second quarter GDP, reported Thursday, showed the economy at the mid rebound point in the "W" shaped growth pattern that Goldman economists have been forecasting. The rebound was earlier than expected because of quicker disbursement of the stimulus rebate checks and pre-spending by consumers ahead of the stimulus, they said.

Second quarter GDP showed a growth rate of 1.9 percent. Improvements in net foreign trade were a big positive, adding 2.4 percentage points to that second quarter growth. But the weakness outside of the U.S. could hurt that growth source and limit its contribution, the note said.

Goldman says the downside to the rapid "ramp up" of stimulus spending could make the "ramp down" occur sooner than expected as well. They do see the stimulus spending helping third quarter growth, but its contribution will fizzle by fourth quarter. The economists now expect a 1.5 percent annualized decline in real consumption.

They revised their fourth quarter growth outlook to flat from 1 percent growth.

The economists also believe inflation will subside later in the year and because of that, the Fed will not raise rates in the foreseeable future. Goldman economists expect a 2 percent funds rate through 2009, with risks to the downside in the next six to nine months and upside after that.